Global Environment
Secular stagnation
Francesco Franco
Nova SBE
November 21, 2014
Francesco Franco Global Environment 1/21
Secular Stagnation
Symptoms
Six years after the Global Crisis exploded and the recovery is still
not going well. Pre- Crisis GDP levels have been surpassed, but
few advanced economies have returned to pre-Crisis growth rates
despite years of near-zero interest rates. Worryingly, the recent
growth is fragranced with hints of new financial bubbles.
•https://www.youtube.com/watch?v=KYpVzBbQIX0
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Secular Stagnation
Organizing thoughts
Basic macroeconomics provides a three-pillar framework for
thinking about an economy’s future growth:
•First is the economy’s long-run potential growth rate.
•Second is the deviation of actual growth from its potential.
•Third is one-o� changes in the level of GDP without a change
in the long-run growth rate.
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Secular Stagnation
Diminished long-run growth potential
•The first pillar focuses on Solow-Romer factors – growth may
be low since the long-run potential growth rate has fallen.
•Gordon 2012:
•Demography: The population is stagnant, life expectancy is
increasing rapidly.
•Education: The mass education revolution is complete, no
further increase in the average US education level is to be
expected.
•Inequality:The raising share of the 10% of the income
distribution has deprived the middle class of income growth
since 1980.
•Public debt: The gloomy outlook for public debt makes
current public services unsustainable.
•Mokyr Glaeser, Crafts: techno-enthusiasts, distribution
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Secular Stagnation
Supply, hysteresis
Figure : Ratchet e�ect
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Secular Stagnation
Persistent GDP gaps
Summers: Suppose that the short-term real interest rate that was
consistent with full employment had fallen to negative two or
negative three percent sometime in the middle of the last decade.
...
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Secular Stagnation
Causes for decline in Real Interest rate
•The first factor is the supply schedule for loanable funds,
namely global saving – assuming output at potential
•The second factor is the demand schedule for loanable funds,
namely global investment –again assuming output at
potential.
•The third factor is the relative demand for safe versus risky
assets.
•The fourth is monetary policy.
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Secular Stagnation
Causes for decline in Real Interest rate
Slower population and possibly technological growth means a
reduction in the demand for new capital goods to equip new or
more productive workers.
http://www.prb.org/Publications/Datasheets/2013/2013-world-
population-data-sheet/world-
map.aspx#map/world/population/2050p
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Secular Stagnation
Causes for decline in Real Interest rate
Lower-priced capital goods means that a given level of saving can
purchase much more capital than was previously the case.
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Secular Stagnation
Causes for decline in Real Interest rate
Rising inequality operates to raise the share of income going to
those with a lower propensity to spend.
http://www.oecd.org/social/inequality.htm
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Secular Stagnation
Causes for decline in Real Interest rate
Increasing friction in financial intermediation associated with
greater risk-aversion in the wake of the financial crisis and
increased regulatory burdens operates to raise the wedge between
safe liquid rates and rates charged to borrowers.
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Secular Stagnation
Safe versus Risky Assets
Figure : Safe Assets evaporation
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Secular Stagnation
Safe versus Risky Assets
•Increases in the demand for safe assets and decreases in the
supply of safe assets push down the natural real interest rate.
•This virtuous mechanism equilibrates the safe asset market as
long as central banks accommodate this decline in natural real
interest rates by lowering nominal interest rates.
•But this adjustment breaks down when nominal interest rates
hit the zero lower bound.
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Secular Stagnation
Bubbles
•Low interest rate environments are known to be prone to
speculative episodes and the emergence of financial bubbles.
•A financial bubble can arise as an imperfect market solution
to a shortage of financial assets.
•Because bubbles are risky, they do little to increase the supply
of safe assets and, hence, to alleviate the shortage of safe
assets that plagues the economy.
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Secular Stagnation
Causes for decline in Real Interest rate
A rising desire on the part of central banks and governments to
accumulate reserves coupled with conservative investment
strategies operates to raise the demand for safe assets, driving
down safe interest rates.
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